On August 10, rival IT outsourcers hiSoft and VanceInfo announced their intention to merge. The resulting entity will comprise a much bigger organization, with more than 20,000 employees mainly located in China, making it one of the largest IT services vendors in the country. In another recent example of market consolidation, BeyondSoft announced on August 18 that it would acquire six Chinese and Japanese subsidiaries of Achievo, a US-based offshore IT services provider.

Over the next 18 months, we believe that IT services vendors in China will face increasing price and margin pressure driven by rapidly increasing local labor costs. The days of relying on low labor costs to drive business in the US, Europe, and Japan are numbered. Chinese IT services vendors are being forced to evolve from a cost-based to a business value-based approach. As a result, we expect the Chinese IT services market to consolidate over the next 18 to 24 months as vendors seek ways to improve their organizational and operational maturity.

The challenges hiSoft and VanceInfo will face after the merger are indicative of broader market pressures, including:

An increased capacity to better compete in large deals. As separate entities, hiSoft and VanceInfo both faced significant challenges when bidding on large-scale outsourcing projects with a total contract value of more than $50 million. With this merger, we expect the newly formed organization to gain better access to these deals as they become more visible to MNCs. However, the new company will still be small by Indian offshore standards.